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4/17/08

The IMF's Global Stability Report published on 8th April 2008 stated that the effects of the credit crunch (ability of banks to offer loans to encourage movement of money in markets) are likely to be "broader, deeper and more protracted" than in previous downturns, due to the "degree of securitisation and leverage in the financial system. The IMF also warned that potential losses from the credit crunch will reach $945bn and could be even higher. As usual the IMF blamed lax regulation by governments and poor supervision by banks for contributing to the crisis. Such factors are often cited by the IMF to explain routine bust and boom cycles experienced by the financial markets, but rarely shed light on the underlying reasons responsible for the situation.

There are 2 main reasons that have contributed to the current turmoil. First, capitalism encourages debt to be traded in international markets through a web of complex financial products called securities. In most cases these products are not supported by tangible assets. Second, the money supply is artificially inflated and not supported by anything valuable. The net effect is that the value behind securities and money supply is determined by confidence. In difficult financial circumstances, the first casualty is the confidence of big investors in the economy, as it happened with the sub-prime mortgage crisis. These investors were quick to realize the worthlessness of their financial products and start to sell. This caused severe panic in the US and international markets” banks were unable to recover their loans and halted lending; sellers were unable to find buyers for their products, insurance companies refused to honour their liabilities and the home owners lost their homes and descended into poverty.

In the Islam trades in debt are forbidden. The money supply is based upon the gold standard and acts like a natural check against attempts to artificially increase the money supply. Hence, the Islamic economic system is more stable and less prone to cycles of boom and bust.